I get $2,800 a month in Social Security. How do I reduce my taxes on it?

By | April 3, 2024

A senior has his social security.

A senior has his social security.

One of the biggest surprises potential retirees face when planning their retirement finances is the fact that their Social Security benefits could very well be subject to income taxes.

A financial advisor can help you plan for Social Security benefits and potentially minimize your tax bill on your benefits. Contact a fiduciary advisor today.

One reason for the confusion is that they never saw their parents or grandparents pay taxes on their benefits. However, it is likely that more and more retirees will pay taxes on their benefits in the future. As of 2022, about 48% of Social Security recipients paid federal income taxes on their benefits — a number expected to rise to about 56% by 2050, according to a 2015 analysis published by the Social Security Administration.

How Social Security benefits are taxed

A retiree calculates how much of his Social Security benefits will be taxable. A retiree calculates how much of his Social Security benefits will be taxable.

A retiree calculates how much of his Social Security benefits will be taxable.

Under rule changes first signed into law by President Ronald Reagan and later expanded by President Bill Clinton, Social Security recipients can pay taxes on up to 85% of their benefits, depending on their other sources of income. The formula for calculating the tax is called “combined income” or “provisional income,” and it’s not exactly simple.

You can calculate your preliminary or combined income by adding half of your annual Social Security benefits to your adjusted gross income (AGI), plus any non-taxable interest paid to you. From there, the income brackets determine how much your benefits are considered taxable income.

None of your benefits are taxable if your provisional income:

  • Less than $25,000 as a single filer

  • Less than $32,000 as a co-filer

Up to 50% of your benefits are taxable if your provisional income:

  • Between $25,000 and $34,000 as a single filer

  • Between $32,000 and $44,000 as a co-petitioner

Up to 85% of your benefits are taxable if your provision income:

  • Over $34.00 as a single filer

  • More than $44,000 as a co-filer

For example, suppose you receive $2,800 per month in Social Security in 2024, which means you will receive a total of $33,600 in benefits in 2024. Now imagine that you will also withdraw $30,000 from an IRA. As a result, your preliminary income would be $46,800 ($16,800 + $30,000). As a sole tax filer, you will be taxed on up to 85% of your benefits as your provisional income exceeds the $34,000 threshold. According to this IRS calculator, you would pay income tax on $15,380 of your benefits.

Keep in mind that a financial advisor can help you better understand your tax liability in retirement, including how much of your benefits are taxable and strategies to mitigate these taxes.

How to Minimize Social Security Taxes

There are several strategies you can use to potentially minimize the taxes you ultimately pay on your Social Security benefits:

  • Reduce or postpone pension withdrawals: Delaying or reducing withdrawals from an IRA, 401(k) or other tax-deferred account reduces or eliminates your provisional income. One strategy would be to withdraw money from a Roth IRA or Roth 401(k), which does not count as taxable income.

  • Manage your RMDs: At age 73 (or 75 for those who turn 74 after December 31, 2032), the IRS requires you to begin taking required minimum distributions (RMD) from your IRAs, 401(k)s, and other deferred accounts. tax. If you are still working and have a 401(k) at that workplace, you do not need to withdraw RMDs from that account. If you make a qualified charitable distribution (QCD) from an IRA, that amount can help satisfy your RMD, but it won’t count as taxable income.

  • Roth conversion: Converting an IRA or 401(k) to a Roth IRA means you will pay income taxes at the time of conversion, but qualified withdrawals in the future can be made tax-free and will not count toward your combined income. However, you will likely face taxes on your Social Security benefits in the year you convert deferred tax assets. One strategy is to convert just enough money to keep your taxable Social Security benefits at 50% or 0%.

  • Beware of the ‘tax torpedo’: Keep in mind that when the taxable amount of your benefits is added to your income, this could put you in a higher tax bracket. This impact is known as the Social Security tax torpedo. Don’t forget to consider all your sources of retirement income when it comes to tax planning. A financial advisor can also help you avoid this tax torpedo and other financial pitfalls in retirement.

In short

It can be complicated to manage and minimize the taxes you pay on your Social Security benefits and other retirement income. Take the time to estimate your retirement taxes before you start collecting pensions, Social Security and taking withdrawals from retirement accounts.

Retirement planning tips

  • It’s important to understand how required minimum distributions (RMDs) work and how they may affect your tax liability in retirement. These mandatory withdrawals from deferred retirement accounts add to your taxable income and potentially push you into a higher tax bracket. Luckily, SmartAsset has an RMD calculator that can help you estimate how much your first RMD will be and when it’s due, so you can plan ahead.

  • Balancing taxes and retirement income is an important part of financial planning in retirement. An expert financial advisor can help you decide how to structure and coordinate your income plan to potentially minimize taxes. Finding a financial advisor does not have to be difficult. SmartAsset’s free tool matches you with up to three vetted financial advisors serving your area, and you can have a free introductory meeting with your advisors to decide which one you think is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.

Photo credit: ©iStock.com/KenTannenbaum, ©iStock.com/ljubaphoto, ©iStock.com/Thurtell

The post I’m going to get $2,800 a month in Social Security. How do I reduce my taxes on it? first appeared on SmartReads by SmartAsset.

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